'We'll have a mortgage until we die': 1.3m interest-only borrowers risking retirement dream

Hundreds of thousands of homeowners will face a triple-whammy in coming years: they will retire, their mortgages will become due for repayment and they will not have the available capital to clear the debt. This will leave them in breach of their mortgages and technically at risk of repossession.

These are the conclusions of a number of recent reports into what is being dubbed the ‘next great banking scandal’: the phenomenon of interest-only mortgages – where borrowers have no means to repay the capital.

Last week, Xit2, which analyses mortgage risk for banks, published research suggesting that one million interest-only mortgages where the borrower has no repayment plan in place, will have matured by 2020.

We’ll have a mortgage until we die

Alan and Peggy Stevens took out their first mortgage in 1960 when they were in their early 20s and newly married.

He was a sub-postmaster – the youngest in London at the time – but he and Peggy, both now 72, have since had varied careers and lived in several homes. They raised three children, all now married. One constant in their life together has been a mortgage.

‘For one brief period in 1980 between house moves we had no mortgage, but otherwise we always have,’ says Alan.

When they neared 70, the couple took stock. They still had an interest-only £65,000 mortgage on their home near Leighton Buzzard, Bedfordshire, but no ready means to repay it. Happily, their property, worth about £500,000, gave them plenty of equity.

Alan says: ‘We looked at all the options and sought a great deal of advice before going for equity release [or lifetime mortgage]. My son is a financial adviser and he said, “Do it.” All our children agreed.’

The deal, with Just Retirement, let Alan and Peggy withdraw up to £185,000 equity at 6.65 per cent. They took £125,000, using part of it to clear the existing mortgage.

Alan says: ‘Peggy was doubtful, worrying about the rate at which mortgage interest would clock up. But we went through every scenario. I don’t think there can be any nasty surprises ahead. It is strange to think that, yes, we will have been mortgaged for almost all our lives, but I don’t regret the decision.’

The new City regulator, the Financial Conduct Authority, is said to be on ‘red alert’ over the issue and has undertaken substantial research into the area.

A few lenders, at least, are sensing a crisis ahead, including Barclays’ new chief executive Antony Jenkins, who spoke about the issue to Financial Mail earlier this month.

With interest-only mortgages, the borrower pays just the interest due each month but puts nothing towards reducing the outstanding capital, so the size of the loan never shrinks.

The big enticement for borrowers is that monthly repayments can be up to 40 per cent lower than with capital repayment.

In the Eighties and Nineties, such mortgages were sold in conjunction with endowment policies or other stock market investments. These were supposed to clear the debt at the end of the term.

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Some of the borrowers caught up in today’s interest-only crisis are those whose endowments have under-performed or who have let them lapse. However, at least in those cases borrowers had some sort of savings to repay part of their loan. Since 2002 an estimated 1.3 million borrowers have taken on interest-only mortgages without having any repayment plan in place, says Xit2.

The banks relaxed their lending criteria between the start of this century and the beginning of the financial crisis in 2007-08, meaning that few asked how homeowners intended to repay their debt when the mortgage matured. Some went further. They lent more to people borrowing on an interest-only basis, arguing that the lower monthly payments meant they could afford bigger loans.

Steve Lowe of Just Retirement is an expert in the field and his company is one of the biggest providers of lifetime loans for older homeowners. About 20 per cent of Just Retirement’s borrowers are taking lifetime loans to repay existing mortgages.

He says: ‘If borrowers were asked to explain how they would eventually repay, many said they would use the growth in the property’s value. This was acceptable to most banks.’

The FCA’s research shows that where there is no linked investment such as an endowment, 28 per cent of interest-only borrowers say they will sell their property to clear their mortgage at the end of the term.

This raises the question of where they would then live. Because many interest-only borrowers extended their mortgages at the height of the housing boom many could not afford to downsize, as they will not have enough equity.

The FCA says: ‘We estimate only 19 per cent of interest-only borrowers who took out loans from 2005 to 2010 with no known repayment strategy will have sufficient equity to downsize.’

The numbers are big. This year about 80,000 interest-only home loans reach maturity and are due to be repaid, rising to 170,000 a year by 2020.

While today’s outstanding debt averages £60,000, in 2020 it will average £110,000. It is expected that every year in the next decade 60,000 borrowers will reach the end of their mortgage and – with no means of repaying – will have to extend their mortgage.

This will either be through a formal arrangement with the lender or, more likely, a default situation in which they simply fail to repay. Of the borrowers in this situation, more than half will be 60 or older.

Mark Blackwell, managing director at Xit2 in West Malling, Kent, says: ‘Banks do not have a good handle on the scale of this issue because most do not have information on how their borrowers intend to pay.

‘A lot of data has not been collected and in many cases lenders have merged. It is clearly an area of consumer concern.’

What to do if capital hasn’t been repaid by end of the mortgage

1 DOWNSIZE: An interest-only borrower with a shortfall can sell the home, clear the loan and buy a cheaper property. But research by the Equity Release Council suggests this will be hard for many. Recent house price falls mean that many homeowners have less equity than before, which in any case is eroded by the costs of selling and buying. This route will be best for those with small mortgages relative to their property’s value.

2ARRANGE A FURTHER MORTGAGE WITH YOUR EXISTING LENDER: For most, this will be the best solution. But borrowers must be able to afford monthly payments into retirement. Lenders may insist the new mortgage is arranged on a repayment basis, pushing up the cost, and they are only likely to offer a deal if there is substantial equity.

3 REPAY THE MORTGAGE WITH A NEW LOAN FROM AN EQUITY RELEASE SPECIALIST: Equity release loans let older borrowers live in their homes until they die or go into care. In the meantime homeowners pay nothing, but interest on their loan rolls up until the property is sold – possibly after their death. These deals, also known as lifetime mortgages or reverse mortgages, can be costly.

Typical rates are between six and seven per cent – far higher than on standard mortgages, where the borrower already has equity in the property. As the sum you can borrow depends on your age as well as your home’s value, this route will best suit older borrowers with some equity. Advice must be sought.